With a new entrant in the market, a Scottish bank buying a retail network and a domestic bank making huge staff cuts, the financials are in for a transition, writes Dominic Coyle.

It was billed as "necessary planning for the future" by one side and as "corporate greed" by the other. The one thing not in doubt with Bank of Ireland's announcement this week of the closure of 10 branches and, more importantly, the shedding of 2,100 jobs is that the Republic's banking sector is facing a new era of challenges.

Coming just a week after Bank of Scotland (Ireland) threw down the gauntlet to the incumbents in the retail banking sector by buying a ready-made, 52-strong chain of stores from the ESB - along with the 170,000 customers who are buying around €80 million goods on credit - it was the clearest indication yet of a significant shake-up in the sector

But, if anything, the arrival of Danske Bank into the Irish market with the acquisition of National Australia Bank's Irish subsidiaries National Irish Bank and Northern Bank will have been more alarming to the Republic's second-largest bank.

Unlike other recent upheavals in the Irish retail banking sector, Danske had no previous presence in the State. Its move illustrates how attractive, economically and demographically, Ireland's market has become, notwithstanding its small size.

"Ireland's economic growth and demographics mean that we are seen as having a good environment for banking," said Stuart Draper, head of research at Dolmen Securities. "It has intensified interest from foreign players in looking at or entering the market here."

The domestic retail banking market has come a long way from the quasi-protected and deeply inefficient sector of the mid-1980s.

However, it is only in recent times that the pace of change has accelerated noticeably. The economic boom of the 1990s that made Ireland the Celtic Tiger meant that there was little incentive to address the issue of costs.

Ironically, it was that very economic success, and the property boom it fuelled, that enticed Bank of Scotland into the Irish market in 1999. Targeting mortgage business, the bank made it clear that there was plenty of fat to trim in the margins charged by Irish mortgage providers.

That has proved to be the case and, even allowing for historically low European interest rates, customers have noticed the difference.

However, cost/income ratios at the State's leading banks are in the mid 50s.

"There is still room for improvement for most of the Irish banks," says Draper. "Things have improved from the days when there was no competition and the domestic banks that had the market to themselves ripped us all off but recent arrivals like RBS and HBOS are still more efficient."

In his announcement, Bank of Ireland chief executive Brian Goggin stated his determination to drive this cost/income ratio down from its current level of 54 per cent to 47 per cent over the next four years.

While Goggin indicated clearly last November that he would be examining the bank's structure and how it could cut costs, the decision by Bank of Scotland (Ireland) to enter the current account market and build a competing branch structure will only have confirmed the need to address the issue.

This week's announcement also raises issues for the other domestic banks.

AIB's most recent results showed that its cost/income ratio was hovering above 56 per cent. Industry observers point out, however, that it is more diversified and better placed as a group to face a challenge to its dominance of the domestic market.

Irish Life & Permanent has been engaged in fairly consistent management of costs as it tried to integrate Irish Life and Irish Permanent, and subsequently TSB.

NCB analyst David Odlum says the bank has been holding costs flat. "They have invested in technology and held a tight rein on costs."

While even more exposed than Bank of Ireland to the stratospheric mortgage market, John FitzGerald of the Economic and Social Research Institute points out that it has reduced its risk by securitising some of its loan book.

The recently introduced code enabling customers to switch banks adds to the pressure. Apart from driving a focus on costs, it is also likely to reinforce the importance of building relationships with customers.

Danske Bank has made it clear that it sees customer focus as one of its strengths. It boasts of its attention to personal service and has indicated it will challenge Irish rivals in this area - including customer-focused opening hours.

For its part, Bank of Ireland has indicated its intention to address this side of the equation. Despite the loss of 12 per cent of its 17,000 staff, Goggin intends to bring about 500 more staff into face-to-face contact with customers at branches.

Irish Bankers' Federation chief executive Pat Farrell is upbeat about the future. "The Irish economy has been growing so strongly that there is plenty of room for people to come in here. Everyone comes with their different value propositions. Let them compete."

He said the Republic was a dynamic market. "This sector is increasingly competitive and it is well placed to take on opportunities that arise in Europe."

Fitzgerald agrees that the critical mass of financial activity in the Republic has been the key to the success of the IFSC (the International Financial Services Sector) and of the financial services sector in the Republic generally. However, he warns that the State's banks need to keep their eye on competitiveness if they are not to face takeover from abroad.

"If bank headquarters move abroad, as is likely with any foreign takeover, there would be a huge loss of human capital and that would affect the whole industry," he said.

NCB's David Odlum agrees that the prevalence of cross-border mergers in financial services is growing but he is confident that Irish banks have still some time to get themselves in shape to meet the threat.

"It is only a matter of time and the only defence available is to be the most efficient players in the market," he said.

"The landscape has been changing, with growing challenges for the domestic players. However, they haven't been complacent and the major players have actually gained market share since the arrival of Bank of Scotland."

For now, the focus on competition is welcome, says Consumer Association chief executive Dermott Jewell. He said the growing competition in the banking market should be reflected in prices and services to customers.

However, he worries that the swingeing cuts to bank staff at Bank of Ireland could adversely impact on customers.

"The fear is that the cost is increasingly being borne by the consumer, not just in charges but in time getting through to fewer and more remote staff by phone or whatever."

Union sources also argue that savings costs by shedding staff is a short-term approach that ignores the nature of the industry.

They point to the experience of the late 1980s when banks sharply cut staff costs only to realise in the Celtic Tiger years that they could not attract people of the right calibre into the industry.

The unions will sit down with bank executives and Labour Relations Commission chief executive Kieran Mulvey on Tuesday. The challenge facing all sides is how to agree a shape for Bank of Ireland that will allow it to prosper in what are only likely to be more challenging times ahead.

"It is not that we are against change," said Irish Bank Officials' Association general secretary Larry Broderick. "But change has to benefit all parties - the bank, the customers and the staff."